australia in the global economy 2021

Table of contentsTOPIC 1 THE GLOBAL ECONOMY

Chapter 1 Introduction to the Global Economy 1.1 The global economy 41.2 Globalisation 51.3 The international and regional business cycles 17

Chapter 2 Trade in the Global Economy 2.1 Advantages and disadvantages of free trade 232.2 Reasons for protection 252.3 Methods of protection 282.4 Trade agreements 322.5 International organisations 392.6 Government economic forums 44

Chapter 3 Globalisation and Economic Development 3.1 Introduction 483.2 Differences in income and economic growth 493.3 Differences in economic development 513.4 Categories of development in the global economy 543.5 Causes of inequality in the global economy 563.6 The impact of globalisation 64

COVID-19: The economic dimensions of a global pandemic 75

Case Study: Brazil 77

Case Study: Indonesia 91

TOPIC 2 AUSTRALIA’S PLACE IN THE GLOBAL ECONOMY

Chapter 4 Australia’s Trade and Financial Flows 4.1 Understanding Australia’s place in the global economy 1084.2 Trends in Australia’s trade patterns 1084.3 Trends in Australia’s financial flows 1134.4 The balance of payments 1144.5 Trends in Australia’s balance of payments 1204.6 The consequences of a high CAD 128

Chapter 5 Exchange Rates 5.1 Introduction 1335.2 Australia’s floating exchange rate system 1345.3 Reserve Bank intervention in the foreign exchange market 1405.4 Fixed exchange rate systems 1425.5 Exchange rates and the balance of payments 143

Chapter 6 Protection in Australia 6.1 Introduction 1486.2 Government initiatives to reduce protection 149 6.3 Australia’s free trade agreements 1516.4 Implications of a reduction in protection levels for the Australian economy 1536.5 The impact of international protection levels on Australia 1576.6 The future of Australian industry in the global economy 160

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TOPIC 3 ECONOMIC ISSUES

Chapter 7 Economic Growth7.1 Introduction 1667.2 Economic growth and aggregate demand and supply 1677.3 The components of aggregate demand 1687.4 Changing levels of growth: the multiplier process 1717.5 The role of aggregate supply 1747.6 The effects of economic growth 1757.7 Recent economic growth trends 1777.8 Policies to sustain economic growth 181

COVID-19: The impacts on the Australian economy 185

Chapter 8 Unemployment 8.1 Introduction 1878.2 Measuring the level of unemployment 1878.3 Recent unemployment trends 1898.4 The main types of unemployment 1918.5 The non-accelerating inflation rate of unemployment 1948.6 The causes of unemployment 1958.7 The impacts of unemployment 1998.8 Policies to reduce unemployment 202

Chapter 9 Inflation 9.1 Introduction 2089.2 Measuring the rate of inflation 2089.3 Recent trends in inflation 2109.4 The main causes of inflation 2119.5 The effects of inflation 2149.6 Policies to sustain low inflation 216

Chapter 10 External Stability 10.1 Introduction 22010.2 Australia’s current account deficit 22110.3 Australia’s foreign liabilities 22510.4 Australia’s exchange rate 22810.5 Policies to achieve external stability 231

Chapter 11 Distribution of Income and Wealth 11.1 Introduction 23511.2 Measuring the distribution of income and wealth 23611.3 Sources of income and wealth 24011.4 Trends in the distribution of income and wealth 24211.5 The costs and benefits of inequality 25011.6 Government policies and inequality 255

Chapter 12 Environmental Sustainability 12.1 Introduction 26112.2 Ecologically sustainable development 26212.3 Market failure: private benefits and social costs 26312.4 Public and private goods 26612.5 Major environmental issues 26612.6 Government policies and environmental sustainability 272


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TOPIC 4 ECONOMIC POLICIES AND MANAGEMENT

Chapter 13 The Objectives of Economic Policy 13.1 Introduction 27813.2 The objectives of economic management 27813.3 The goals of government policy in 2021 28113.4 Conflicts in government policy objectives 28413.5 The economic policy mix 285

Chapter 14 Fiscal Policy 14.1 The meaning of fiscal policy 28914.2 Budget outcomes 29014.3 Changes in budget outcomes 29214.4 Methods of financing a deficit 29514.5 The current stance of fiscal policy 29814.6 The impact of recent fiscal policy 302

Chapter 15 Monetary Policy 15.1 Introduction 31015.2 The objectives of monetary policy 31115.3 The implementation of monetary policy 31315.4 The impact of changes in interest rates 31815.5 The stance of monetary policy in Australia 321

Chapter 16 Microeconomic and Environmental Policies 16.1 Microeconomic policies and aggregate supply 32616.2 Microeconomic policies and individual industries 32916.3 Environmental management policies 336

Chapter 17 Labour Market Policies 17.1 Introduction 34517.2 The role of national and state industrial systems 34617.3 Australia’s wage determination system 34717.4 Dispute resolution 35317.5 Decentralisation of the labour market 35517.6 Education, training and employment programs 35717.7 Evaluating labour market outcomes in Australia 361

Chapter 18 Effectiveness and Limitations of Economic Policy 18.1 An overview of the effectiveness of economic management 36518.2 Limitations of economic policy 37018.3 Evaluating the effectiveness of specific policies 375

APPENDICES

Appendix A Key Economic Skills A.1 Introduction 384A.2 Drawing and interpreting economics diagrams 386A.3 Equations and calculations in economics 391A.4 Interpreting economic data and information 393

Appendix B Advanced Economic Analysis B.1 Comparative advantage and gains from trade 396B.2 Income-expenditure diagram 400B.3 Long-run Phillips curve 402B.4 Limitations of macroeconomic policy 404

Glossary 407

Index 420


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Chapter 1: Introduction to the Global EconomyTopic 1: The Global Economy

IssuesTopic 1 economic issues questions can ask you to:

■ Examine the effects of globalisation on economic growth and the quality of life, levels of unemployment, rates of inflation and external stability

■ Assess the potential impact on the environment of continuing world economic development

■ Investigate the global distribution of income and wealth

■ Assess the consequences of an unequal distribution of global income and wealth

■ Discuss the effects of protectionist policies on the global economy

SkillsTopic 1 skills questions can ask you to:

■ Analyse statistics on trade and financial flows to determine the nature and extent of global interdependence

■ Assess the impact on the global economy of international organisations and contemporary trading bloc agreements

■ Evaluate the impact of development strategies used in a range of contemporary and hypothetical situations

FocusThe focus of this study is the operation of the global economy and the impact of globalisation on individual economies.

THE GLOBAL ECONOMY

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TOPIC 11

Economics Stage 6 Syllabus 2009 extracts © NSW Education Standards Authority for and on behalf of the Crown in right of the State of New South Wales, 2009.

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Chapter 1: Introduction to the Global Economy

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Topic 1: The Global Economy

Topic 1

IntroductionThis section (chapters 1 to 3) covers Year 12 Topic 1 The Global Economy and focuses on the structure of the global economy and the key features of globalisation. To understand the Australian economy we need to start with a global perspective. Topic 1 is critical to the rest of the course because it provides the overall perspective for when we later examine other topics such as Australian economic issues and policy.

Chapter 1 provides an overview of the global economy. It discusses the main components of the global economy – international trade, international flows of finance and investment, and the role of technology and people movements in strengthening links between individual economies. These links are highlighted with a review of international and regional business cycles.

Chapter 2 examines the main economic theory that underpins globalisation – the concept of free trade and the economic benefits that trade brings. Chapter 2 then examines the reasons for countries restricting trade and protecting their own industries and how recent years have seen many international agreements to reduce barriers to trade. This chapter concludes with a look at the role of international organisations and government economic forums in managing the global economy.

Chapter 3 examines the divisions within the global economy. Understanding the gaps in the living standards between rich and poor nations is essential to an analysis of the global economy. This chapter looks at the distinction between economic growth and economic development. It discusses the main categories into which different economies are grouped and examines the global and domestic factors that contribute to inequality. Chapter 3 also discusses the impacts of globalisation on economic development.

After Chapter 3, this textbook has a special section analysing the impacts of COVID-19 on the global economy.

Topic 1 concludes with case studies of Brazil and Indonesia. Understanding the impacts of globalisation on individual economies is an important complement to any analysis of globalisation at the global level and is a requirement of the Year 12 Economics Course.

Brazil is one of the four largest emerging economies in the world and is the major economy of the Latin American region – a region of the world Australians often know little about. Like Australia, Brazil is a major commodity exporter, but unlike Australia it has recently experienced severe recession. Brazil been cautious in its response to globalisation and many of its experiences highlight the opportunities and challenges of increased economic integration.

Indonesia is the largest emerging economy of South-East Asia – a region that experienced rapid industrialisation and improvements in economic development in recent decades despite major international economic disturbances. The increasing linkages between Indonesia and Australia make understanding the Indonesian economy especially valuable for future Australian economists.

The case studies may complement another country that you choose to study. You may decide to compare the impacts of globalisation on these two economies or you may choose to make either Brazil or Indonesia your case study in 2021.


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Introduction to the Global Economy

1.1 The global economy

1.2 Globalisation

1.3 The international and regional business cycles

1.1 The global economyThe study of economics has traditionally focused on how individual economies operate. While countries have always traded with each other, economic theories have generally assumed that economies operate separately from each other and that the structure and performance of economies is mainly the result of local developments and influences.

This way of looking at economics no longer describes the real world. Today we live in a global economy – where the economies of individual countries are linked to each other and changes in a single economy can have ripple effects on others. In the industrialised world, for example, the value of what many countries buy and sell from overseas is greater than half of the country’s economic output. When conditions in the global economy change, these changes can have an impact on the economies of far-flung countries almost immediately. The importance of global factors in driving economies was starkly illustrated in 2020 by the COVID-19 pandemic, when many countries closed their borders to international tourists and travellers, international supply chains were disrupted, and the global economy plunged into its deepest recession in almost a century. Two special analyses of the global and domestic economic impacts of the COVID-19 pandemic are included in this textbook at the end of Chapters 3 and 7.

In many respects there is nothing new in the fact that major economic developments can have impacts across the world. For example, the Great Depression of the late 1920s and 1930s had a global impact with many countries experiencing a severe economic downturn. On the other hand, economies are more closely integrated now than at any previous time. The linkages between economies are stronger and more far-reaching than ever before. There are few aspects of life that have not been affected by the waves of global influences washing across the world. This is especially the case in a smaller economy such as Australia, which has embraced the global economy and pursued policies to integrate its economy with those of its region and around the world.

In the past three decades globalisation has become a dominant economic, political and social theme. Globalisation is the integration between different countries and economies and the increased impact of international influences on all aspects of life and economic activity.

Unlike many previous times in world history when one major empire often dominated the relationships between economies, globalisation in recent decades has involved layers of influences in all directions. Although the United States is still the leading world economy, its power is increasingly constrained by China and other major economies.

Globalisation refers to the integration between different countries and economies and the increased impact of international influences on all aspects of life and economic activity.

1Chapter 1: Introduction to the Global Economy


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Globalisation is also a phenomenon with increasing impacts on national politics. The United Kingdom’s “Brexit” from the European Union (EU) and the election of Donald Trump as US president on an anti–free trade platform in 2016 were both examples of rising public opposition to globalisation, with perceptions that it reduces national sovereignty and contributes to inequality. The COVID-19 pandemic added to concern about the impact of globalisation, as travel between countries accelerated the spread of the coronavirus and countries ran short of medical supplies because of their reliance on global supply chains.

From an economic point of view the major indicators of integration between economies include:

• international trade in goods and services• international financial flows• international investment flows and transnational corporations• technology, transport and communication• the movement of workers between countries.

There are many dimensions to globalisation and there are many statistics that can be used as measures of globalisation. For example, some indication of the extent of globalisation can be gained from examining the proportion of television programming taken by shows produced overseas or the influence of global fashions on what people wear in countries such as Australia. These would be classified as social or cultural indicators of globalisation. Each of these indicators provides an insight into the way in which economies are now linked to each other and re-shaping the global economy.

“A couple of years ago, our former Chair Christine Lagarde described a world where the global economy was increasingly integrating, but where the global political system was fragmenting, in part because of a backlash against the disruptive effects of globalisation, and its perceived winners and losers.

Over the last decade, opportunities and forces unleashed by technology and globalisation have accelerated, ushering in the Fourth Industrial Revolution. Innovation has created new business models, disrupting incumbents. Corporations strive to remove friction from supply chains and service delivery. However, governments, regulators, incumbent players and societies react to disruption with friction. Complex forces are at play.

We are seeing a shift to multi-speed globalisation. The strategic challenge of the next decade is navigating a world that is simultaneously integrating and fragmenting. Stock markets have set new records and economic volatility has fallen to historic lows, while political shocks on a scale unseen for generations have taken place.”

– Paul Rawlinson, Global Chair, Baker McKenzie “A prediction for globalisation in 2018”, 22 January 2018

World Economic Forum Annual Meeting

1.2 GlobalisationTrade in goods and servicesInternational trade in goods and services is an important indicator of globalisation because it is a measure of how goods and services produced in an economy are consumed in other economies around the world. The value of exports of goods and services has grown rapidly in recent decades, increasing from US$4.3 trillion (19 per cent of global output) in 1990 to over US$24.9 trillion (30 per cent of global output) in 2019. The size of the Gross World Product (GWP) – the aggregate value of all goods and services produced worldwide each year in the global economy – is now over fifty times its nominal level in 1960, but the volume of world trade has grown to over 125 times its 1960 level.

Gross World Product (GWP) refers to the sum of total output of goods and services by all economies in the world over a period of time.



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Chapter 1: Introduction to the Global EconomyAustralia in the Global Economy 2021

Source: IMF World Economic Outlook (April 2020) ^estimate *projection

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Growth of World Trade

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Figure 1.1 – Gross World Product and world trade

Annual growth in the value of trade has generally been around the same level as world economic growth since the global financial crisis, but between the 1980s and 2000s it grew at around double the global rate of growth, as shown in figure 1.1. During economic downturns, such as in the mid-1970s, early 1980s, early 2000s and again in the late-2000s, the growth of global trade has contracted faster than world economic output, highlighting the greater volatility of trade compared with the GWP. In mid-2020, the IMF forecast that global trade would contract by 11 per cent because of the impact of COVID-19 on goods supply chains, tourism, and international education services in 2020.

The high volume of global trade reflects the fact that economies do not produce all the items they need, or they do not produce them as efficiently as other economies, and have to import goods and services. Global trade has also grown strongly in recent decades because of new technology in transport and communications, which have reduced the cost of moving goods between economies and providing services to customers in distant markets. Over the same period, governments have encouraged trade by removing barriers and joining international and regional trade groups such as the World Trade Organisation (WTO), European Union (EU), and the Association of South-East Asian Nations (ASEAN). These developments have been a major force behind increasing global trade.

1995 2018

Source: World Development Indicators 2020Notes: Figures are for exports; shares do not add to 100% because of rounding

Manufactures 62%

Commercialservices 19%Other

goods 2%

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Commercialservices 23%

Manufactures 53%

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Figure 1.2 – Composition of global trade, 1995 and 2018

World Trade Organisation (WTO) is an organisation of 164 member countries that implements and advances global trade agreements and resolves trade disputes between nations.

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The mix of what goods and services are traded, known as the composition of trade, can have an impact on individual economies. Figure 1.2 shows that global trade is dominated by manufactured goods, such as vehicles, clothing and electronic goods. Trade in services such as finance and communication are the fastest-growing category of trade and make up two-thirds of global output, but they currently make up only one-quarter of global exports. Countries such as Australia are expected to benefit from the growth in services trade because countries with highly educated workforces are best positioned to compete in growing global markets for services. Nevertheless, the COVID-19 pandemic resulted in a change in the composition of world trade, at least in the short term, with services sectors such as tourism and international education severely affected by travel restrictions.

The direction of trade flows has changed in recent decades, reflecting the changing importance of different economic regions. Between 1995 and 2019, high-income economies (concentrated in North America and Western Europe) saw their overall share of global trade fall from 82 per cent of world merchandise exports to 69 per cent, as shown in figure 1.3. Over the same period, the fast-growing economies of East Asia and the Pacific region (which includes China, Indonesia and Vietnam) experienced the most rapid increase in trade, with their share of global trade surging from 7 per cent to 16 per cent.

High income 82%

Sub-SaharanAfrica 1%

Middle East &North Africa 1%

Latin America &the Caribbean 4%

Eastern Europe &Central Asia 4%

Source: World Development Indicators 2020. Figures do not add up to 100% because of rounding

1995 2019

South Asia 3%

Sub-SaharanAfrica 2%

Eastern Europe &Central Asia 4%

South Asia 1%

East Asia &Pacific 7%

Middle East &North Africa 2%

Latin America & the Caribbean 5%

East Asia &Pacific 16%

High income69%

Figure 1.3 – Share of world’s merchandise exports by region, 1995 and 2019

Trends in the direction of trade can also have an impact on individual economies. For example, with the Chinese economy playing an increasingly important role in global trade, other economies have placed an increased priority on their trade relationships with China. China’s economy has grown rapidly in recent decades, and while it has recently been growing at a more moderate pace, it is still one of the world’s fastest-growing economies. Countries such as Australia have responded by preparing for a larger trading relationship with China by encouraging students to learn Mandarin at school, negotiating trade agreements with China, and increasing investment in domestic industries whose goods and services are in greatest demand from China.

1 Explain TWO reasons for the increase in trade in goods and services in the global economy.

2 Describe trends in the composition and direction of trade flows in the global economy.

3 Discuss the impacts of changes in global trade flows on economies.

reviewquestions


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Financial flows

International finance now plays a leading role in the global economy. Because finance is crucial to so many aspects of how modern economies work, the globalisation of finance has had a major impact in terms of linking economies around the world. Finance is the most globalised sector of the world economy because money moves between countries more quickly than goods and services or people.

International financial flows expanded substantially following financial deregulation around the world, which in most countries occurred in the 1970s and 1980s. Controls on foreign currency markets, flows of foreign capital, banking interest rates and overseas investments in share markets were lifted. Technological change also played an important role. New technologies and global communications networks linked financial markets throughout the world, allowing events in major international markets such as New York, Tokyo, London and Hong Kong to produce immediate results.

While there is no single measure of international financial flows, all have shown a dramatic increase during the globalisation era. Figure 1.4 shows the growth of exchange-traded derivatives, which are a major instrument in global financial markets. After falling significantly in 2008 after the global financial crisis and in 2013 after the Eurozone crisis, financial flows have recovered strongly. Exchange-traded derivatives reached almost US$95 trillion in 2019 (larger than the size of the GWP).

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Figure 1.4 – The growth of global financial flows: exchange-traded derivatives

An important feature of international finance is foreign exchange markets (or forex markets), which are networks of buyers and sellers exchanging one currency for another in order to facilitate flows of finance between countries. Foreign exchange markets have experienced extraordinary growth in recent years, with average daily turnover reaching almost US$5.8 trillion by 2019, up from US$4.0 trillion in 2010. The value of a currency is expressed in terms of another currency and is known as the exchange rate between two currencies. As will be discussed in chapter 5, most countries determine the value of their currency through the interaction of the forces of supply and demand in foreign exchange markets.


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GLOBAL ECONOMYUS$88 TRILLION

GROSS WORLD PRODUCT

US$52TRILLION

US$95TRILLION

GLOBALTRADE

59%

GLOBALFINANCE

108%

GLOBAL COMMUNICATIONS

4.1 BILLIONINTERNET USERS

GLOBAL LABOUR

165 MILLIONMIGRANT WORKERS*

GLOBAL COMPANIES

104 THOUSANDTRANSNATIONAL CORPORATIONS

GLOBAL INVESTMENT

US$1.5 TRILLIONFOREIGN DIRECT INVESTMENT

SOURCES: World Bank, Bank for International Settlements, International Telecommunications Union, United Nations Conference on Trade and Development*Excludes migrants who have taken citizenship in their new country

The main drivers of global financial flows are speculators and currency traders who shift billions of dollars in and out of financial markets worldwide to undertake short-term investments in financial assets. Based on data from the Bank for International Settlements’ Triennial Survey of foreign exchange transactions, only a small share is for “real” economic purposes such as trade and investment. The vast majority is for speculative purposes – to derive short-term profits from currency and asset price movements – or for technical purposes, such as hedging against future exchange rate movements and swapping funds between currencies. International investment banks and hedge funds, often based in the United States, are generally responsible for most of these transactions. The aim of these transactions is either to gain from short-term movements in asset prices – namely currency and share price fluctuations – and to generate profits, or to hedge against future movements and minimise the risk of losses.

Speculators are investors who buy or sell financial assets with the aim of making profits from short-term price movements. They are often criticised for creating excessive volatility in financial markets.


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The main benefit of greater global financial flows is that they enable countries to obtain funds that are used to finance their domestic investment. In particular, investors in countries with low national savings levels would not otherwise be able to obtain the necessary finance to undertake large-scale business and investment projects if their economies were closed off to global financial flows. In this regard, global financial flows may enable a country to achieve higher levels of investment (and therefore economic growth) than would otherwise have been possible if finance from overseas were not available.

However, changes in global financial flows can also have significant negative economic impacts. Speculative behaviour can create significant volatility in foreign exchange markets and domestic financial markets. This is because speculators are often accused of acting with a herd mentality, meaning that once an upward or downward trend in asset prices is established it tends to continue. Speculative activity has been blamed for large currency falls and financial crises in several countries over the past decade, including Britain in 2016, Turkey in 2018 and repeatedly in Argentina. As discussed further in chapter 2, the International Monetary Fund (IMF) is responsible for the overall stability of the global financial system. One of its roles is to stabilise individual economies experiencing currency crises or financial turmoil in order to prevent flow-on effects to other economies.

1 ��Account�for�the�trends�in�international�financial�flows�during�the�globalisation era.

2 Examine the role of speculators and currency traders in global financial markets.

3 Discuss the impact of global financial flows on economies.

reviewquestions

Investment and transnational corporations

Another indicator of globalisation is the rapid growth of investment between countries over the past two decades. Since the 1980s, the global economy has witnessed rapid growth in movements of capital. While there are similarities in the growth of global finance and global investment, the two concepts can be distinguished by describing the shorter-term, speculative shifts of money as finance and the longer-term flows of money to buy or establish businesses as investments.

One measure of the globalisation of investment is the expansion of foreign direct investment (FDI), which involves the movements of funds that are directly invested in economic activity or in the purchase of companies. Reforms in developed and developing countries led to a surge in FDI flows from the 1980s onwards. Figure 1.5 demonstrates the dramatic increase in FDI flows over the past three decades. FDI flows are strongly influenced by the level of economic activity. The global recession in the late-2000s reduced FDI flows sharply, but they gradually recovered and the 2010s decade saw sustained high levels of FDI. The COVID-19 pandemic caused another sharp downturn in FDI flows, with UNCTAD forecasting flows of just $1 trillion in 2020, half their level of 2015.

FDI flows have traditionally favoured developed nations. With greater industrial capacity and larger consumer markets, economies in Europe, North America and Japan were the natural destination for foreign investment during the globalisation decades of the 1990s and most of the 2000s. But this dominance has changed, with the share of FDI destined for developing and other economies increasing from a quarter of the global total to around half in recent years. The majority of FDI inflows to developing countries flow to economies in Asia. Of the US$685 billion inflows to developing countries in 2019, US$474 billion went to Asia ($209 billion to China and Hong Kong, $92 billion to Singapore and $51

International Monetary Fund (IMF) is an international agency that consists of 189 members and oversees the stability of the global financial system. The major functions of the IMF are to ensure stability of exchange rates, exchange rate adjustment and convertibility.

Foreign direct investment (FDI) refers to the movement of funds between economies for the purpose of establishing a new company or buying a substantial proportion of shares in an existing company (10 per cent or more). FDI is generally considered to be a long-term investment and the investor normally intends to play a role in the�management�of�the business.


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billion to India). The slower increase in FDI inflows to developing countries in the 2010s reflected a decline in returns on FDI, relative to the returns on investment in developed countries. The average annual return on FDI in developing countries fell from 11.0 per cent in 2010 to 7.8 per cent in 2019. In comparison, during the same period it fell only slightly in developed economies, from 6.4 per cent to 6.0 per cent.

Developing and transitional economies have also become a major source of investment funds in the global economy. In 2019 these economies contributed 30 per cent of global FDI funds, compared to around 15 per cent in the mid-2000s.

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Figure 1.5 – Total world FDI inflows

Transnational corporations (TNCs) play a vital role in global investment flows. Often, they will have production facilities in countries around the world, sourcing inputs from some countries, doing most of the manufacturing in another country, and doing other packaging and marketing tasks in another country.

As TNCs such as Apple, Shell and Toyota establish or expand production facilities in a country, they bring foreign investment, new technologies, skills and knowledge. Because of the capital and job opportunities they bring, governments often encourage TNCs to set up in their country through supportive policies like subsidies or tax concessions. Since the early 1990s, the number of TNCs has grown from 37,000 to 104,000 and the number of affiliates to TNCs has grown from 170,000 to over 1,116,000. Foreign affiliates of TNCs employ over 79 million people globally. As TNCs continue to increase in both volume and significance, there has been an associated increase in cross-border cartels between large corporations, which reduces competition in economies and disadvantages local consumers. According to the Organisation for Economic Cooperation and Development (OECD), over 240 cross-border cartels were penalised between 1990 and the mid-2010s, with a financial impact of US$7.5 trillion. Many more cartels are not uncovered by regulators.

A significant cause of the growth of international investment is the increased level of international mergers and takeovers. During recent decades, there has been a spate of mergers between some of the world’s largest corporations – most recently between fast food chains Burger King and Tim Hortons, pharmaceutical companies Bristol-Myers Squibb and Celgene, technology and communications giants AT&T and Time Warner, media companies Walt Disney and 21st Century Fox, mining companies Glencore and

Transnational corporations (TNCs) are global companies that dominate global product and factor markets. TNCs have production facilities in at least two countries and are owned by residents of at least two countries.


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Xstrata and between other major companies in the resources, healthcare, and financial services industries. These mergers have seen the formation of companies worth hundreds of billions of dollars and reduced the number of truly global companies in different product markets. The peak year for cross-border mergers and acquisitions (M&As) was 2007, when US$1 trillion of mergers took place, as shown in figure 1.6. International M&As typically move in line with changes in global economic conditions – investment falls when economic growth is lower. In 2019, M&As declined by 40 per cent from the year before to stand at US$411 billion. This decline was driven by sluggish growth in Europe and by Brexit as well as weak activity in developing and transitioning economies.

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Figure 1.6 – Cross-border mergers and acquisitions

In overall terms, most investment in economies around the world still comes from domestic sources. FDI typically accounts for less than 20 per cent of total investment, meaning that over 80 per cent of investment still comes from within national economies.

1 Distinguish between global financial flows and global investment flows.

2 Outline trends in the growth and direction of FDI flows.

3 Explain the role that TNCs play in global investment flows.

reviewquestions

Technology, transport and communication

Technology plays a central role in globalisation. In part, this is because technological developments facilitate the integration of economies. Consider the following examples:

• Developments in freight technology such as standardised shipping containers (containerisation), cargo tracking and more efficient logistics systems facilitate greater trade in goods.

• Cheaper and more reliable international communication through high-speed broadband allows for the provision of commercial services to customers around the world. The proportion of the global population that uses the internet has increased from 7 per cent in 2000, to 54 per cent in 2019.

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• In finance and investment, technology plays a key role in facilitating globalisation through the powerful computer and communications networks that allow money to move around the world in a fraction of a second.

• Smartphones and mobile internet access are fundamentally changing the structure of many industries, from retail and transport sectors to education, leisure and professional services. Technology is causing disruptive change to the structures of many of these industries as huge populations embrace online technologies. The number of mobile phone subscriptions is now almost 8 billion, which is roughly equal to the number of people in the world.

• Advances in transportation such as aircraft and high-speed rail networks allow greater labour mobility between economies, as well as increased accessibility to tourism and travel for consumers.

Technology is one of the strongest drivers of globalisation because it allows integration at a depth unthinkable in previous decades and centuries. Economies that adapt to new technologies rapidly also tend to be the economies that are most closely integrated with other economies in their region or around the world.

Another way that technology influences globalisation is as a driver of growth in trade and investment. For the leading technology innovators and exporters, technology represents a major trade opportunity. The United States earns substantial export revenues from its global leadership in many areas of new technologies. An analysis of the income flows from technology transfers between countries shows that the United States receives half of the royalties and licence fees from the world’s technology transfers and that most of the remaining gains are shared amongst a small group of developed economies. Other countries rely on importing technology from these leading countries with the hope that over time, as they adopt new technologies, they can become innovators and develop their own technology exports as countries such as India, South Korea and Israel have done in recent years. Trade, therefore, spreads new technologies. Because innovation is an

Social media has accelerated globalisation at many levels. By creating new online communities, social media platforms such as Facebook, Instagram, YouTube and Twitter connect individuals on an unprecedented scale. Of� all� internet�users,� around� three-quarters� are�active�on� social�media. Facebook,�for�example,�claims 2.6 billion�members.

Although social media is contributing to “cultural globalisation”, it is also having major economic impacts. Social media is central to marketing consumer products and services. Firms may use professional networks such as LinkedIn to source the best talent from global labour markets. Google Chief Economist Hal Varian has even suggested that word-search data for terms like unemployment benefits and holidays could be used to predict trends in consumer confidence and economic conditions.

Social media is also itself a global business opportunity. Google earned over US$150 billion in 2019, mostly from advertising revenue. LinkedIn was bought by Microsoft in� 2016� for�US$28.1� billion,� six� times� its� value� after� it�was� floated� in� 2011. Facebook�acquired�WhatsApp�for�US$19�billion�in�2014, and�Microsoft�paid�US$8.5�billion�for�Skype�Communications�to�expand�its�new�media�operations. Apple�Inc.�became�the�world’s�first�trillion-dollar company by selling the phones, tablets and laptops through which people access social media. Social media platforms can rise and fall quickly (TikTok, for example, launched globally in 2017 and had two billion downloads by 2020), but they are reshaping the economics of many industry sectors beyond media and telecommunications.

SOCIAL MEDIA AND GLOBALISATION


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ongoing process, the leading country can often retain its technological superiority for a long period of time.

Business corporations that play a leading role in developing new technologies will often move directly into overseas markets in order to sell their products and services direct to local buyers. For example, leading information and communications technology corporations such as Google, Oracle and IBM all have extensive global operations. These corporations bring extensive know-how into a new market and will often invest substantially in the new countries that they enter, particularly in education and training. In this way technology drives increased foreign investment.

The internet provides a communications backbone that links businesses, individuals and nations in the global economy. This not only allows greater communication within and between firms but also reduces business costs that have in the past been a barrier to integration between economies. The World Information Technology and Services Alliance (WITSA) has estimated that the global marketplace for information and communications technology is worth almost US$5 trillion. The surge in worldwide internet usage to four billion users highlights the rapid spread of technologies across countries in recent years and the increasingly interconnected nature of the global economy. Figure 1.7 shows the number of internet users in selected countries.

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Figure 1.7 – Internet users in selected countries

International division of labour and migration

Labour markets differ from markets for goods and services, finance and investment, in that they are far less internationalised. While money can move around the world in fractions of a second, goods and services can move in days and investments can be made in weeks, people do not move jobs quite as freely. In fact, in recent years the industrialised world has become more restrictive about immigration of people from poorer countries.

Nevertheless, more people than ever before are moving to different countries to take advantage of the better work opportunities that other countries offer. The International Labour Organisation estimates that around 164 million people (around 2 per cent of the world’s population) have migrated to work in different countries in the world, and that rising labour supply pressures and income inequalities could increase this level. Labour migration into OECD member countries fell because of reduced job opportunities following the global financial crisis, gradually recovering during the 2010s. While there are strong economic and financial motivations for migration, political unrest and conflict are also a significant factor driving movements, as is evident by the countries shown in figure 1.8.

Migration is the movement of people between countries on a permanent or long-term basis, usually for 12 months or longer.

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Source: World Development Indicators 2020

United States 4.8 millionGermany 2.7 millionTurkey 1.4 millionUnited Kingdom 1.3 million Canada 1.2 million

Countries with net immigration

Venezuela -3.3 million India -2.7 million Syria -2.2 million Bangladesh -1.9 million China -1.7 million

Countries with net emigration

Figure 1.8 – Net migration by region and country (over past five years)

The movement of labour between economies appears to be concentrated at the top and bottom ends of the labour market. At the top end, highly skilled workers are attracted to larger, higher-income economies such as Europe and the United States because of the higher pay and better job opportunities available in these countries. The International Labour Organisation estimates that two-thirds of international migrant workers have moved to high-income economies. Smaller advanced economies such as Australia and New Zealand suffer from a “brain drain” of some of their most talented and skilled workers, who are attracted to other countries by greater rewards. In effect, there is a global market for the most highly skilled labour.

At the bottom end of the labour market, low-skilled labour is also in demand in advanced economies where it may be difficult to attract sufficient people born locally to do certain types of work. Jobs that only require basic skills (and perhaps do not require any language skills) are often filled by migrants – in the United States by migrants from Latin America; in European countries by migrants from Eastern Europe and Africa; in richer Asian countries by migrants from lower-income economies in the region.

These trends in migration reflect an international division of labour whereby people move to the jobs where their skills are needed while the globalisation of the labour market is increasing but there are still significant barriers to working in other countries. These barriers include immigration restrictions, language, cultural factors and incompatible educational and professional qualifications. Most people would prefer to stay in the country of their birth, where their family and friends live, and where they are most familiar with the language and culture. Against this preference, domestic instability and geopolitical turmoil may force people to flee their countries, with the UNHCR estimating that 80 million people were forcibly displaced at the end of 2019, the highest figure since World War II.

The international division of labour is also evident from another aspect of the world economy – the shift of businesses between economies, rather than the shift of people. Just as people may move countries in search of the best job opportunities, corporations shift production between economies in search of the most efficient and cost-effective labour. In a globalised business environment, many producers operate what is called a global supply chain (or global value chain), with production facilities in several countries. The process called “offshoring” allows companies to shift production between countries to reduce

International division of labour is how the tasks in the production process are allocated to different people in different countries around the world.


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costs. This results in the development of export-oriented economies that can compete on the basis of their abundance of low-wage labour. While offshoring has been occurring for decades, particularly for labour-intensive manufacturing processes, recent years have also seen services functions such as IT support, data management and accounting move to more competitive locations to reduce costs. A 2019 paper by the International Monetary Fund found that global supply chains have gone furthest in the electric and machinery manufacturing sector. It also found that higher-income countries gain the most from participating in them.

The international division of labour reflects the economic concept of “comparative advantage” that is discussed in chapter 2. Essentially, this theory states that economies should specialise in the production of the goods or services that they can produce at the lowest opportunity cost. Developing economies have a large population of workers with only basic labour skills and education levels, giving them a comparative advantage in labour-intensive manufacturing. Advanced economies have generally shifted away from labour-intensive manufacturing to focus on specialised service aspects of the economy that use more highly skilled workers who are in greater supply in advanced economies.

1 Explain the role of innovations in technology communications and transport in driving the process of globalisation.

2 Outline key trends in migration in recent years.

3 Explain how migration and offshoring reflect an international division of labour between different economies.

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BRAIN DRAIN OR BRAIN GAIN?

Around 164 million people worldwide have migrated because of work. The proportion of these “economic migrants” who are highly skilled heavily outnumbers those who are low-skilled in almost all countries. In some countries, like Haiti and Jamaica,�more�than�80 per cent�of�the�skilled�labour�force�has�moved�overseas.�Not even high-income countries are immune to the brain-drain problem, with Hong Kong and Ireland losing between one-third to one-half of their college graduates.

Brain drains have traditionally been perceived as a negative outcome for an economy in terms of both development and welfare. High levels of skilled labour emigration increase the technological gap between developed and developing countries as human capital flows towards more advanced economies and the source country may experience shortages of skilled workers. For example, health systems in developing countries can suffer when qualified doctors and nurses move to high-income economies where they are in demand.

On the other hand, economies experiencing outwards migration can benefit from remittance inflows, interconnected business networks and increased sharing of technological developments. The World Health Organisation (WHO) and the EU recently launched a project focused on the migration of health workers: From Brain Drain to Brain Gain. The program aims to manage and improve the flow of health workers from developing economies

in Sub-Saharan Africa and Asia to maintain health standards and ensure that source countries retain some ability to deal with potential medical crises.

Sources: IZA World of Labor; WHO Health Workforce Alliance and the Health

Workforce Department


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1.3 The international and regional business cycles

The level of economic activity in individual economies is never constant (that is, never in a state of equilibrium). Economic growth usually moves in cycles – in other words, instead of sustaining a steady rate of growth from year to year, most economies go through periods of above-average growth that then lead into periods of below-average growth. These ups and downs of the business cycle (that is, the general level of economic activity) are caused by changes in the level of aggregate supply and demand. This is shown in figure 1.9, which also shows that economies usually experience an overall trend of growth in output (measured by increases in Gross Domestic Product).

Just as individual economies experience stronger and weaker periods of economic growth, so too does the global economy. This ebb and flow of world economic growth is known as the international business cycle, which refers to the changes in the level of economic activity in the global economy over time. Although the levels of economic growth each year often differ greatly between countries, for most countries economic growth is stronger when the rest of the world is growing strongly and weaker when other countries are experiencing a downturn. The extent of synchronisation of economic growth levels across individual economies is highlighted by the extent to which the downturn in the United States in 2008 spread to other advanced industrialised economies and resulted in one of the largest falls in world trade in more than six decades. Similarly, the global recession resulting from the COVID-19 pandemic demonstrated the interconnectedness of economies. Even countries where the pandemic was less severe still suffered immense economic damage, in part because of the flow-on effects of the recession in other countries.

Figure 1.10 highlights the strong relationship between the economic growth performances of the world’s major economies. The United States, the Euro Area economies, Japan and Australia all experienced a long period of moderate growth during the 2000s, followed by a sharp collapse in growth after 2008. Each of these advanced economies experienced slower rates of growth during the 2010s before the severe impact of the COVID-19 recession in

Output

RecessionBoom

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Figure 1.9 – The business cycle

Business cycle refers to fluctuations in the level of economic growth due to either domestic or international factors.

Gross domestic product (GDP) is the total market value of all final goods and services produced in an economy over a period of time.

International business cycle refers to fluctuations in the level of economic activity in the global economy over time.

Figure 1.10 – Economic growth performance of major economies

Source: IMF World Economic Outlook (April 2020) *forecast

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2020. The IMF forecast substantial falls in 2020 across all these economies as a result of the COVID-19 crisis. As a small open economy, the Australian economy is particularly affected by economic growth rates overseas. Research by the Reserve Bank of Australia (RBA) has found that 63 per cent of changes in the level of output in Australia can be explained by the changes in interest rates, growth levels and inflation rates in the Group of Seven (G7) largest industrialised countries. This means that for Australia, domestic factors have half as much influence as international factors on economic growth in any given year.

The transmission of economic conditions from one country to another is made more immediate by the increased integration of economies during the globalisation era:

• Trade flows: If there is a boom or recession in one country, this will affect its demand for goods and services from other nations. The level of growth in an economy will have significant flow-on effects on the economic activity of its trading partners.

• Investment flows: Economic conditions in one country will affect whether businesses in that country will invest in new operations in other countries, affecting their economic growth. For example, the recent recession in Brazil resulted in a sharp fall in Brazil’s investments in other economies in Latin America, with negative outflows of US$13 billion in 2018.

• Transnational corporations: TNCs are an increasingly important means by which global upturns and downturns are spread throughout the global economy. In 2019, German investment bank Deutsche Bank announced 18,000 job losses across its offices globally, including selling off some divisions, in response to a deterioration in its performance in the decade since the global financial crisis.

• Financial flows: Short-term financial flows also play an important role in transmitting the international business cycle. A 2016 paper by leading economists in the EU titled “International business cycle synchronisation: The role of financial linkages” concluded that countries with strong financial integration will experience an increase in financial flows between themselves, especially in response to common external shocks. This was experienced in mid-2016 when the Brexit referendum result in the UK saw increased financial flows among the other advanced economies.

• Financial market and confidence: Consumer confidence and the “animal spirits” of investors are constantly influenced by conditions in other countries. This is highlighted by the strong correlation between movements in share prices of the world’s major stock exchanges – that is, they tend to go up and down at the same time. Events that threaten global stability – such as an increased risk of war, sovereign debt default or the collapse of a major business – can spark an immediate downturn in share values. This effect was seen throughout 2020 as markets reacted to developments in the COVID-19 pandemic.

• Global interest rate levels: Monetary policy conditions in individual economies are strongly influenced by interest-rate changes in other countries. If higher economic growth makes it necessary for the central bank to increase interest rates in the United States, this places pressure on central banks in other economies to follow suit. Furthermore, higher interest rates in a major economy will make borrowing more expensive for emerging and developing economies. When the US Federal Reserve raised interest rates in 2018, the World Bank predicted that this increase would reduce investment into emerging economies by up to 1.1 per cent of GDP, slowing their growth.

• Commodity prices: Global prices of key commodities such as energy, minerals and agricultural products play an important role influencing inflation, investment, employment, growth and other features of the international business cycle. Historically, changes in oil prices have had major impacts on global growth (with lower prices boosting growth overall). However, oil prices have become less important to global growth due to the increasing diversification of energy sources,


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as a World Bank study concluded after evaluating the fall in oil prices between 2014 and 2016.

• International organisations: International forums such as the Group of Twenty (G20) or Group of Seven (G7) can play an important role in influencing global economic activity. Discussions of global economic conditions at summit meetings mean that the G20 or G7 can act as the unofficial forum for coordinating global macroeconomic policy, especially during periods of economic uncertainty. These meetings can also resolve tensions between countries that threaten the economic outlook.

Nevertheless, it is important to note that despite these linkages between economies, the pattern and the pace of economic growth differ between countries. Even countries that are at similar stages of economic development, such as the United States and European economies, experience differing levels of economic growth. Despite the global linkages described above, many of the factors that influence the business cycle differ between economies:

• Interest rates have a significant impact on the level of economic activity, and interest rates differ between countries (or regions, in the case of European countries that share a common interest rate policy). Higher interest rates will dampen economic activity while lower interest rates will stimulate economic activity.

• A government’s economic policy decisions can influence their economic growth rate. For example, the UK’s decision to leave the EU in 2016 reduced the rate of economic growth as investor confidence in Britain’s economy fell. Fiscal policies also have a significant effect upon the level of economic growth in the short to medium term. If a government in one country raises taxes while the government in another country cuts its taxes, economic growth is likely to move in opposite directions in those two countries.

• Exchange rates differ between countries and impact on the level of trade competitiveness and confidence within economies. In turn, these factors will influence the level of economic growth. The Bank for International Settlements has noted that exchange rates are having an increased impact on domestic economies, particularly in the past decade as government policy has less ability to target economic shocks.

• Structural factors differ between economies. For example, countries have different levels of resilience in their financial systems; different levels of innovation and takeup of new technologies; different attitudes towards consumption and savings; different population growth rates and age distribution; different methods of regulating labour markets, educating and training employees and regulating businesses. These structural factors influence the competitiveness of economies and their level of growth.

• Regional factors between economies differ. Some economies are closely integrated with their neighbours and are therefore very influenced by the economic performance of their major trading partners. For example, geopolitical instability in countries like Egypt, Turkey and Yemen held back economic growth in other Middle Eastern economies throughout the 2010s. Other economies may be less influenced by changing growth in a specific region.

In summary, there is an international business cycle and when there is a substantial economic downturn, such as in the mid-1970s, the early 1990s, the late 2000s and early 2020s, this downturn is shared across almost all countries. However, the factors influencing individual economies differ and the level of world economic growth is one of several factors that influence economic conditions.

FACTORS THAT STRENGTHEN THE INTERNATIONAL

BUSINESS CYCLE

• Trade flows• Investment flows and

investor sentiment• Transnational

corporations• Financial flows• Technology• Global interest rates• Commodity prices• International

organisations

FACTORS THAT WEAKEN THE

INTERNATIONAL BUSINESS CYCLE

• Domestic interest rates

• Government fiscal policies

• Other domestic economic policies

• Exchange rates• Structural factors• Regional factors


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Australia in the Global Economy 2021

Regional business cyclesSimilar to the international business cycle, the term regional business cycle refers to the changes in economic activity in a particular region. In the same way that countries’ activity can be affected by global changes, they can also be affected by regional changes. While changes in the US economy will have ripple effects around the world, they can have more pronounced impacts in North America, on the nearby Canadian and Mexican economies, because of their integration through the North American Free Trade Agreement. Likewise, many of the 27 economies of the EU are influenced by activity levels in Europe’s largest economies – Germany and France.

In the East Asian region, economic conditions are dominated by the influences of China and Japan – the world’s second- and third-largest economies. While the regional business cycle in Asia has been weaker than in other regions, it has strengthened in recent years because of increased integration between Asian economies. On the other hand, as China and Japan both experienced a slowdown in recent years, the region continued to experience stable growth due to moderate upswing elsewhere in the region.

Other regions around the world have a higher proportion of developing or low-income countries, and they tend to be less regionally integrated. In Sub-Saharan Africa, for example, many economies such as Chad, Uganda and Sierra Leone are dependent on high- income economies for more than 80 per cent of their exports, and are therefore as likely to be influenced by conditions in the world economy as they are by neighbouring African economies. In the South Asia and Latin American regions, regionally dominant economies such as India and Brazil respectively play a key role alongside influences from outside the immediate region.

While regional business cycles tend to be dominated by the largest and most globalised economies, it is also important to recognise the complexity of conditions at the regional level. In the early 2010s, economic conditions in European economies were weakened by financial turmoil in the relatively small economy of Greece. Similarly, the East Asian financial crisis of the late-1990s was triggered by a substantial depreciation of the Thai baht. A financial crisis in Argentina and the severe impact of COVID-19 in Brazil weakened the Latin American region in 2020. Geographical tensions among Russia and Ukraine in the mid-2010s reduced growth, trade and economic policy across Europe and Central Asia. In this way, smaller economies can affect the performance of regional economies even if they are not dominant economies or strongly integrated.

Clearly, regional business cycles can be quite different from patterns in global economic activity with some regions performing more strongly than others and fluctuating more independently from other regions. However, regional cycles are also part of the phenomenon of globalisation because they result from increased cross-border integration. These business cycles of different regions interact in complex ways to drive the level of economic activity around the world.

1 Define the terms international business cycle and regional business cycle.

2 Using examples from specific countries or regions, describe recent trends in the international business cycle and regional business cycles.

3 Outline the factors that strengthen and weaken the relationship between the economic cycles of individual economies.

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Regional business cycles are the fluctuations in the level of economic activity in a geographical region of the global economy over time.


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summarysummarychapterchapter


1 Globalisation refers to the integration between different countries and economies, leading to the increased impact of international influences on all aspects of life and economic activity.

2 The global economy is a way of describing the activities of all the economies of the world as a whole, reflecting the fact that they are now increasingly linked together into one larger economic system.

3 The gross world product is the sum of the total output of goods and services produced by all economies in the world over a given period of time.

4 The growth of world trade is an important indicator of the extent of globalisation. During the period of rapid globalisation in the decades to 2010, trade grew at a much faster rate than world economic growth. In the 2010s, trade grew at close to the same level as overall growth.

5 The pattern and direction of world trade has changed to reflect the increasing importance of advanced technology and services and the growth of the Asia Pacific region.

6 The process of globalisation has occurred most rapidly in global finance which faces few barriers and is driven mostly by speculative activity (that is, investors seeking to make short-term profits out of fluctuations in exchange rates, interest rates and other financial indicators).

7 Foreign direct investment (FDI) is the injection of funds into an economy to establish a new business or purchase an existing business. FDI flows are driven by transnational corporations (TNCs) and often involve the transfer of technological innovations between economies.

8 Technology, transport and communication have driven increased economic integration by facilitating linkages between businesses individuals and nations in the global economy.

9 Globalisation has also contributed to the international division of labour in part because of the migration of workers to countries where jobs are plentiful or better paid, and also because of the shift of business between economies in search of the most efficient and cost-effective labour.

10 The concept of international and regional business cycles refers to the extent to which economies tend to experience a similar pattern of boom, downturn and recovery at similar times. Although the shape and the length of the business cycle differs from one economy to the next, the level of economic growth between different economies is closely related, and recessions and booms tend to occur around similar times.


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Australia in the Global Economy 2021

1 Explain what is meant by globalisation, using recent trends to illustrate your answer.

2 ‘Just as the COVID-19 pandemic spread fast because of the contagious nature of the coronavirus, the COVID-19 recession spread fast because of the connected nature of the global economy.’ Discuss what this statement is saying about the global economy in the 2020s.

3 Describe the role of trade flows in globalisation.

4 Summarise recent changes in the direction and composition of international trade in goods and services.

5 Explain how technology drives growth in the trade of goods and services.

6 Explain the difference between investment flows and financial flows.

7 Outline the role of foreign-exchange markets in international financial flows.

8 Discuss the role played by transnational corporations (TNCs) in globalisation.

9 Discuss the impact of globalisation on the international division of labour.

10 Explain how changes in the level of economic growth in one economy can impact on economic growth in other economies.

11 Examine the performance of an individual economy over the past decade. Discuss the extent to which this economy’s performance has reflected world economic growth trends and the extent to which it has differed. Identify factors that might explain these similarities and differences.

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